Diamondrock Hospitality Co (DRH) 2006 Q4 法說會逐字稿

Welcome to the DiamondRock Hospitality's fourth quarter 2006 conference call. The Company is hosting a live web cast of today's call, which you can access on the Company's web site at www.drhc.com in the investor relations section.

Many of the comments made today are considered to be forward-looking statements under Federal security laws. As described in the Company's SEC filings, these statements are subject to numerous risks and uncertainties, which could cause future results to differ both expressed in or implied by our comments.

The Company is not obligated to publicly update or revise these forward-looking statements.

In this call the Company will discuss non-GAAP financial information such as adjusted FFO and adjusted EBITDA, which it believes is useful to investors.

You can find a reconciliation of this information to GAAP in today's earnings press release, which is available on the Company's web site and in the Company's Form 8-K filed with the SEC.

I would now like to welcome management.

With us today are Bill McCarten, Chief Executive Officer, John Williams, Chief Operating Officer, and Mark Brugger, Chief Financial Officer.

At this time, I would like to turn the call over to Bill McCarten for his opening remarks. Please proceed, sir.

Thanks, Towanda.

Good afternoon everyone and welcome to DiamondRock Hospitality's fourth quarter 2006 earnings conference call.

In 2006 DiamondRock again delivered outstanding results with an industry leading 58% total return to our shareholders.

The Company benefited from a strong overall economy and favorable trends in travel industry. With our high quality hotel portfolio, prudent acquisitions, and thoughtful asset management, we capitalized on the positive environment to deliver outstanding operating results for the full-year.

RevPAR increased 11.7% with almost all of the increase coming in rate. We saw particularly strong performance from our hotels in New York, Chicago, and Vail.

Hotel adjusted EBITDA profit margins expanded a robust 300 basis points. Revenues increased over 114%. And adjusted EBITDA increased 185% compared to 2005 historical results.

Adjusted FFO per diluted share increased 75% to $1.38.

During 2006 we dramatically grew the size and quality of our hotel portfolio while further strengthening the Company's balance sheet.

We completed two successful equity offerings, raising approximately $350 million of equity. And we acquired five high quality hotels for total consideration in excess of $700 million.

We also increased our brand diversity and acquisitions, with acquisitions of a Westin and a Conrad Hilton. Additionally, we improved our hotels and future profits through a thoughtful asset management and a significant capital improvement program.

In 2006 we effectively managed over $60 million of property renovations and repositioning. These capital improvements range from a full scale repositioning of the Oak Brook Hills Marriott resort to adding five new rooms at the Courtyard Midtown East in Manhattan.

We're also off to a strong start in 2007.

In January we acquired the six-month old, 793-room Westin Boston Waterfront hotel for $330 million, our first true convention center hotel. In connection with this acquisition we completed a $330 million over subscribed equity offering.

We estimate that our current investment capacity is about $300 million. And we're working hard to make sure that we continue our disciplined acquisition strategy to find high quality hotels at attractive prices.

In 2007 our organization is focused on several significant value creating opportunities within our existing portfolio including properly positioning our recently acquired Conrad hotel in Chicago and adding valuable meeting space to our Westin Boston Waterfront hotel.

At our Chicago Marriott Downtown hotel, we will complete planning and begin the renovation of the lobby and restaurants and the addition of additional meeting space.

Finally, we will evaluate selective asset recycling opportunities.

We expect more excellent results in 2007. Although last year was a tough act to follow and comparisons a bit more difficult. We believe that our substantially renovated portfolio and its overall quality will allow us to leverage strong industry fundamentals for several more years.

Now I'd like to turn the call over to Mark Brugger, who will review our fourth quarter and full-year financial results in detail and provide 2007 guidance. Mark?

Thank you, Bill.

As Bill touched on, DiamondRock had an outstanding fourth quarter and full-year. Now let's jump into the numbers.

For the fourth quarter the Company reported total revenue of $168.9 million, adjusted EBITDA of $44.8 million, adjusted FFO of $30.7 million, and adjusted FFO per share of $0.40. All of these numbers were above the high end of our prior guidance.

For our period of ownership for our entire portfolio of 20 hotels, same store RevPAR for the fourth quarter was $118.50. A 10.9% increase over the same period of 2005, driven by an 11.7 percentage point increase, an average selling rate offset by a 0.4 percentage point decrease in occupancy.

In other words, more than 100% of the RevPAR growth came from rate.

Same store hotel adjusted EBITDA margins for our hotels increased to 27.93%, a 282 basis point increase over the same period in the prior year.

In the fourth quarter we actually recorded a one-time inventory loss of almost $400,000 related to a theft at one of our hotels. This loss majorly impacted margins by 23 basis points in the quarter.

Also somewhat ironically, Oak Brook Hills' operating performance exceeded expectations in the quarter, which actually hurt margins by almost 10 basis points because of the way the map works with yield support.

I'd like to remind folks that our numbers do include some contractual yield support that DiamondRock received from its hotel operators under certain management agreements, most significantly in Oak Brook Hills and Orlando Airport Marriott.

During the fourth quarter the Company recorded $426,000 of yield support, which contributed 25 basis points to our hotel, to our adjusted EBITDA margins in the quarter.

For the full year, the Company recorded $2.8 million of yield support, which contributed 57 basis points to our hotel adjusted EBITDA margins. We project yield support to be less than $500,000 in 2007.

As I mentioned, the financial results in the fourth quarter were above the Company's prior guidance. Adjusted EBITDA exceeded the top end of our guidance in fourth quarter by about $3 million. This out performance is primarily attributable to a few factors.

About a third came from a higher mix of rate in our RevPAR growth, notably in Manhattan, Frenchman's, Worthington, and Conrad and higher F&B growth. Another third came from two fourth quarter acquisitions that were not part of our prior forecast. It's the Renaissance Austin and Renaissance Waverly acquisitions. And the balance came from corporate items such as higher interest income.

Now turning to the balance sheet. Our balance sheet, it's in great shape and is among the best in the industry.

As of the end of the fourth quarter, the Company had $1.8 billion in assets and total debt of approximately $844 million. We've taken advantage of historically low interest rates to lock in an inexpensive debt for an extended period of time.

As of the end of the year, the Company's debt was comprised entirely of fixed rate, property specific mortgages with a weighted average interest rate of 5.7% and a weighted average maturity of approximately nine years.

Moreover, eight of the Company's 20 hotels were under-covered by mortgage debt and can be leveraged, providing flexibility for future financings.

The Company's overall capital structure continues to be very straightforward and transparent. We have 100% ownership in all of our hotels, in other words, no JV interest. We've not issued any OP units. And we've not issued any preferred stock.

We believe that our capital structure is a competitive advantage, as it makes it easy for our investors to understand our operating results and provides us maximum flexibility going forward.

Now as Bill mentioned, our balance sheet today provides us flexibility to acquire another $300 million of hotels. In arriving investment capacity we do not base it on a single factor but instead take into account a number of factors.

Note that our net debt to enterprise value is about 37% at the end of the quarter. And today, after the Westin Boston acquisition and the associated equity raise, it stands at 32%.

Even after deploying our investment capacity of $300 million, our net debt to enterprise value will only be 39%.

Turning to dividends, during the fourth quarter the Company declared dividends of $0.18 per share. However, to reflect our continuing cash flow to growth, we are increasing our quarterly dividend by 33% to $0.24 per share or $0.96 per share annualized.

The new dividend is well covered and represents a payout of about 70% of our 2007 cash build for distribution, or CAD.

The Company is providing the following specific guidance for the first quarter 2007 and full-year. Note that the Westin Boston Waterfront was only open the second half of 2006 and thus is included only during comp periods for RevPAR and margin guidance.

So for the first quarter, we expect RevPAR to increase 8 to 10%, hotel adjusted EBITDA margins to increase 100 to 150 basis points. We expect adjusted EBITDA to be between 31.5 and $33.5 million, adjusted FFO to be between 22.9 and $24.9 million. And adjusted FFO per diluted share of $0.25 to $0.27.

Now turning to the full-year 2007 guidance.

We expect RevPAR to increase 8 to 10%, hotel adjusted EBITDA margins to increase 150 to 200 basis points, adjusted EBITDA of 204 to $208 million. And we expect adjusted FFO of 148.6 to $152.6 million. And adjusted FFO per diluted share of $1.58 to $1.62.

Lastly, total capital expenditures are expected to be approximately 70 to $80 million for the full-year 2007. John will spend some more time discussing specific projects in a minute.

To sum up, we had a great 2006. And the outlook for 2007 is very positive.

And with that, I'd like to turn it over to John Williams, our Chief Operating Officer.

Thanks, Mark.

Obviously we've very pleased with our fourth quarter and 2006 performance. Our portfolio concentration in five gateway markets and the three destination resort markets continues to position us for excellent growth.

For the fourth quarter and the year New York, Chicago, Los Angeles, Vail, and St. Thomas were very strong markets. These strong results were somewhat moderated by slower growth at Griffin Gate, Salt Lake City, and Sonoma. The SpringHill Suites in Buckhead also had a difficult comp in the fourth quarter because of displacement from Katrina.

We're happy to report that Oak Brook Hills is improving and finished the year well above our mid 2006 EBITDA forecast.

We continue to see progress at that hotel in large part due to our aggressive asset management, as well as a tremendous attention and effort from our manager, Marriott. The 2007 budgeted EBITDA, while still shy of our original underwriting, represents over a 10% return on our total investment in the hotel.

In short, we still have work to do, but the general direction is positive and we expect the hotel to be back on to our underwriting Pro Forma in 2008.

The Conrad Chicago hotel marked our first acquisition of a Hilton managed hotel. Our strategy for the Conrad is to capitalize on the powerful market presence of the Hilton brand in Chicago.

Working closely with Hilton regional and corporate executives, we have put in place an executive team at this hotel who share our vision and can implement the strategy of capturing the benefits of Hilton's powerful Chicago marketing engine.

Although we now have the right team in place and what we and Hilton believe to be the right strategy for the hotel, it appears that it will take longer to ramp up to the original underwriting Pro Forma.

We'll have greater visibility later this year, but we remain confident in the long-term prospects for this hotel.

Turning to our portfolio as a whole, it's well diversified among business transient, group, and leisure. We continue to see positive trends in each customer segment.

For the full year, BT revenue grew almost 15%, group revenue grew over 16%, and leisure revenue grew almost 6%.

Significantly, the average daily rate in the BT and leisure segments grew by approximately 14 and 10% respectively, reflecting the continuing shift out of the lower rate categories.

Moreover the booking pace for our portfolio demonstrates the continuing strength of this lodging cycle. Definite group revenue on the books for 2007 is up a solid 7% versus the same time last year.

Food and beverage sales were another positive story in the fourth quarter. Food and beverage revenues were up approximately 9%. Because of stronger group demand and the new meeting space we've added to our hotels, our operators have been able to book more high profit groups in other words, groups that generate more banquet and AV sales, which boost the overall profitability of our hotels.

The continuing trend of booking high profit groups translated into almost 13% increase in banquet and AV revenues for our comp hotels in the quarter. Because these revenues are such a large component of overall food and beverage sales, it stimulated a 12% increase in total food and beverage profits at comp hotels.

We expect these favorable trends to continue.

The expense side of our portfolio is a mixed story. Our largest cost, wages, remain contained. For the year wages increased 3.6% across our comparable hotels. Benefits increased at a greater rate, 10.9%.

The overall 2006 wage and benefit increase of 5.6% was significantly outpaced by sales growth. As a result, wage and benefit cost as a percent of total sales dropped from 33.6% to 32% for the year among comparable hotels.

Other expenses among comp hotels for 2006 included property taxes up 24%, property insurance up 32%, incentive management fees were up approximately $2.5 million, a 42% increase over 2005. Energy costs, which remain volatile, but seemed to be moderating, were up only about 5% for the year, benefiting from some favorable comps and warm weather in the fourth quarter.

I also want to talk about our 2006 capital investment program. We're very pleased with the execution of the capital projects during 2006 and our asset managers did a tremendous job.

To maximize returns, our asset managers have responded well to the dynamic nature of these projects, continually balancing the often-inconsistent objectives of maximizing hotel revenue, meeting project schedules and budgets, and minimizing disruption.

In 2006 we completed about $61 million in capital projects, which is $18 million less that our original projections. The lower amount spent on capital projects in 2006 results from a combination of short-term scheduling changes, scope reductions, and about $2.5 million of cost savings.

The scheduling changes were spread over a number of projects and were individually insignificant. They will not result in any significant incremental disruption and most of the work would be substantially completed by March 15.

By moving projects into slower seasonal demand periods, sometimes we can reduce displacement without increasing project costs.

Our 2006 disruption to EBITDA came in at about $2 million, approximately $1 million under our estimate at the beginning of the year. And again, we pushed no 2006 displacement into 2007 by our estimates.

Again, I want to commend our asset managers and our operators. They've managed the pace, cost, and overall displacement of our 2006 capital program very effectively. And we're excited to begin seeing the benefits of these investments in our 2007 operating results.

I also wanted to touch on our pipeline of acquisition opportunities.

As Bill mentioned in 2006 we acquired approximately $730 million of hotel assets. We also completed the acquisition of the $330 million Westin Boston Waterfront hotel in January.

We continue to see many opportunities through our network of contacts, our first look relationship with Marriott, and the hotel broker community.

Although we're seeing a large number of hotels on the market, pricing remains rich. We have remained disciplined in our underwriting parameters and will continue to do so. We remain confident in our ability to source and close deals like the Westin Boston Waterfront.

We're very excited about the upcoming year. Our portfolio continues to perform well. We anticipate a continuation of the positive trends we have seen over the past 18 months. Overall, we expect another outstanding year in 2007 with strong RevPAR growth at 8 to 10% and margin growth of 150 to 200 basis points.

We expect a somewhat higher occupancy mix in our RevPAR growth from the ramp of renovated and new hotels as well as less disruption. Our guidance also reflects some labor pressures in specific markets like LA, lower yield support, and higher incentive management fees.

As for 2007 revenue, we anticipate a continuing migration into higher rate categories in the business transient and leisure segments. Revenue in the BT and leisure segments are budgeted to increase approximately 15 and 10% respectively.

Special corporate rates are up approximately 9% in 2007 across the portfolio. Group revenue is budgeted to increase almost 9% in 2007.

As for 2007 expenses, we expect a continuation in the trends in wages and benefits. Wages are budgeted to increase 3.9% in 2007 among comparable hotels. And benefits are budgeted to increase 7.6%. We continue to work with our operators to offset wage and benefit increases with better productivity.

We expect utilities to increase in 2007 at a high single digit rate. We expect 2007 incentive management fees to increase approximately $3.7 million, impacting margins by just under 40 basis points.

We expect property tax and insurance to remain at approximately the same percentage of revenue in 2007. And as we've mentioned, the reduced yield support in 2007 will have an impact on margin growth, since yield support enjoys 100% flow through.

Finally as for 2007 capital expenditures, our capital expenditure budget in 2007 will approximate 70 to $80 million, but is substantially less than 2006 relative to the increased size of our portfolio.

Also, our capital budget includes about $15 million related to the build out of meeting and retail space at our newly acquired Westin Boston Waterfront hotel.

We also have a major project planned in Chicago, as well as a rooms redo at the Atlanta Westin, and a redo of suites and breakout meeting rooms at LAX.

The work in Chicago will begin in the second half of this year. However the bulk of the work and virtually all of the disruption will take place in Q1 2008.

The build out of new meeting rooms, exhibit hall, and restaurant at the Westin Boston Waterfront will begin in Q3 of this year and will be completed by the end of 2007 with no disruption budgeted.

Total budgeted disruption in 2007 is approximately $1 million of EBITDA across the entire portfolio.

In summary our portfolio performed very well in 2006 and we're expecting a very good 2007. We continue to benefit from our exposure to major markets like New York, Chicago, and LA and strong destination resort markets in Vail and St. Thomas.

We maintain our commitment to our investors to work hard to maximize asset values through aggressive asset management and finding additional hotel acquisitions that deliver the same strong results as our portfolio has delivered to date.

With that, I'll turn things back to our Chairman.

Thanks, John. Towanda, we're happy to open up the line for questions now.

[OPERATOR INSTRUCTIONS]

Your first question comes from the line of David Loeb with Baird. Please proceed.

Mark, good morning by the way, or afternoon for your time. Can you just explain a little bit more about the theft? Did you say $400,000?

Yes. It was at one of our hotels. It was actually a golf shop inventory that seems to have disappeared.

It's an inventory issue. We're still investigating but we took the hit in the fourth quarter.

Is it insured?

We're investigating that now. But we're skeptical that we'll be able to get, be successful in that insurance claim.

I see. Is this like the whole shop was cleared out?

David, this is John. This happened over apparently a period of years, some of it before our ownership. We're working with Marriott to try and understand exactly what the thing was and how long it went on. And then hopefully reach some sort of agreement either with ourselves and Marriott or with the three parties including insurance.

Okay. So this isn't like somebody broke in and took $400,000 worth of inventory?

It seems like it was something that happened over a period of time. We caught it in the fourth quarter and kind of had to true up for it.

Okay. And on the yield support margin math, can you just explain a little bit? You basically, you said that Oak Brook was better than expected and that hurt your margins.

I'm glad you asked the question. Basically the bottom line number at Oak Brook that was in our previous forecast was fixed, right, because it was supported by yield support. So it was going to be a certain number.

But the revenues out performed. So if you think about it, the better it did, it didn't move the bottom line but it moved the top line in the equation of figuring out margins. So it actually hurts margins.

So another way to state that, David, is since the bottom line is fixed, a fixed dollar amount through the yield support essentially, the lower the sales the higher the margin.

So it works in reverse as performance improves.

Yes. But better performance is clearly better in the long run.

Well the good news is it's performing better. The bad news is that it has a weird impact on our reported margins.

The other positive impact, besides just the math, is that the way the yield support works, this actually now gives us a bigger bucket of yield support to support the 2007 NOI of the hotel. So it makes it easier for us to achieve that goal as well.

We have, we use about $1.7 million at Oak Brook in '06. So that left us with about $800,000. And I think we're only forecasting to use [240]?

You actually said on page eight and back in the notes in the back that you expected to recognize $400,000 this year total. Is that, this year is I guess you've got a little bit left for Buckhead SpringHill Suites, but mostly that's Oak Brook?

Right, about 100 for Buckhead and about the balance for Oak Brook, depending on how it works out.

The total is a little less than $0.5 million, correct.

Okay, but given that you've got 1.7 left for use.

No, no. We used 1.7.

I'm sorry.

The total bucket that Marriott gave us was $2.5 million for Oak Brook to be used over a couple of years, 2006 and 2007. So whatever we didn't use in 2006 then provides us a bigger part of that $2.5 million pool that we can use in 2007.

Yes. But your expectation is you will only use about half of what you have available to you.

Right. And then it's not available to us after 2007.

Right. So you'll be, you'll essentially will be out performing the minimums that the yield support would have provided.

Correct.

Okay. That makes sense. John, maybe just a little more color on the acquisition environment. I guess on two fronts, what sort of your thought at this point of the year of what you'll be able to do?

And second is how important is the Marriott relationship where you are now in the cycle and relative to the potential in the future?

Okay. In terms of what we expect to be able to, David, we tend not to put any acquisitions in our guidance or in our forecast just because they're so unpredictable.

We do anticipate we would hope that we'd be able to keep up the pace that we've done in the past. We're not assured of that in anyway. But that obviously with our capacity would be consistent with our track record.

We don't, I would have to say in our pipeline right now we have not identified $300 million worth of what I would call probable acquisitions.

But there's, as I pointed out, there's a lot on the market. It's just very richly priced. And we're not going to compromise our underwriting standards at this point.

With respect to the Marriott relationship, obviously it's not as valuable at a high point in the cycle because there aren't as many problem properties in a high point of a cycle.

However, there still remain properties where Marriott has various motivations to want to deal with an individual partner in order to possibly restructure a management contract, possibly get some capital infused into the hotel.

So we expect to see a fair number of opportunities of those types.

This is Bill. Just to add on to that, just thinking back over the past 90 days with Marriott. I can think of at least three, perhaps four opportunities we had conversations with that they had some interest in. And there was some discussion and participation.

It just so happened that overall the deals didn't seem to make sense to us when all was said and done. So we didn't proceed.

That's very helpful. Thank you.

[OPERATOR INSTRUCTIONS]

At this time, there are no further questions. I would now like to turn the call over to Mr. Bill McCarten for closing remarks.

Thank you, Towanda. Well, as you've heard, we had just an outstanding year and we look forward to a great year in 2007. I want to thank all of you for your support and your interest. And we'll be talking to you soon. Thank you.

Ladies and gentlemen, this concludes the presentation. You may now disconnect and have a great day.